Valley National Bancorp (VLY) 2012 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the Valley National Bancorp fourth-quarter earnings call.

At this time all participants are in a listen-only mode.

Later we will conduct a question-and-answer session.

Instructions will be given at that time.

(Operator Instructions).

As a reminder this conference is being recorded.

I would now like to turn the conference over to Dianne Grenz.

Please go ahead.

Good morning, welcome to Valley's fourth-quarter 2012 earnings conference call.

If you've not read the earnings release we issued earlier this morning, you may access it along with the financial tables and schedules for the fourth quarter from our website, ValleyNationalBank.com.

Comments made during this call may contain forward-looking statements relating to Valley National Bancorp and the banking industry.

Valley encourages participants to refer to our SEC filings, including those found in Forms 8-K, 10-K and 10-Q, for a complete discussion of forward-looking statements.

Now I would like to turn the call over to Valley's Chairman, President and CEO, Gerald Lipkin.

Thank you, Dianne.

Good morning and welcome to our fourth-quarter earnings conference call.

In spite of the challenging economic and interest rate environment, I am pleased with Valley's performance, both for the current quarter and fiscal year.

During the course of 2012 we were able to expand our franchise on to Long Island with the successful integration of State Bank of Long Island.

We now operate over 20% of Valley's offices in New York, which we believe adds tremendous franchise value while providing significant expansion opportunity, both from a lending and deposit origination perspective.

Valley's geographic expansion is not focused on acquisition opportunities alone, as we continue to seek de novo branch locations.

Furthermore, we recently completed the renovations at Valley's recently opened New York corporate headquarters located at One Penn Plaza.

Many of Valley's New York City commercial lenders have already relocated to this location.

In addition, Valley's customer-facing senior executives, including myself, now spend time in New York City, meeting both current and prospective customers.

The New York marketplace is an attractive banking environment, both from a commercial and consumer point of view.

Accordingly, Valley has aggressively begun to expand its very popular Residential Mortgage Banking activities into this market.

During the fourth quarter, Valley introduced its successful $499 refinance program to this market, and we are hopeful it will have a similar success as it has in our New Jersey marketplace.

Application volume has already increased significantly and we anticipate the improved momentum to carry through 2013.

Specifically, New York applications in January increased to over 250 versus a total of 322 New York applications for the entire fourth quarter.

Furthermore, our marketing efforts on TV and radio for the residential mortgage product have served as a catalyst for commercial loan growth in a market where the name Valley was not well-known a year ago.

On an aggregate basis, across Valley's entire footprint, residential mortgage banking activity set internal origination records during the fourth quarter.

Over $530 million of residential mortgage loans were closed, compared to approximately $450 million in the prior quarter and about $385 million in the same period one year ago.

Valley sold $389 million in loans during the quarter, roughly more than the $380 million sold in the third quarter.

The sequential quarter decline in gain on sales from $25 million to $15.6 million is more a function of mark to market valuation adjustments which Alan will discuss in more detail a little later.

Not to be misled by the record origination volume during the quarter, the impact of Hurricane Sandy on residential mortgage closings was significant.

Furthermore the impact on the volume of applications received was also dramatic.

For the three months preceding the hurricane, Valley generated approximately 1,500 mortgage applications per month.

And in the days following Hurricane Sandy, application volume came to a halt, and the average application volume for the rest of 2012 dropped to approximately 1,000 a month.

This will have an impact on closings in the first quarter of 2013.

However, application volumes to date in January has been superb and, based on production to date, the month will produce a record number of applications and will actually go on to make this our best application month ever with over 1,700 applications.

At Valley, mortgage banking is unique to our -- is unique to our culture, and has been structured accordingly.

Valley employees deal directly with each and every customer, usually through our branch network.

As such, Valley has not incurred the typical infrastructure expenses associated with other large mortgage banking activities.

Our employees are not commission-based mortgage banking salesman, but rather most are branch employees that have been registered under the Safe Act and cross trained in an effort to bring more value to the customer.

Focusing on the operating efficiencies is paramount as the general life span of refinance mortgage banking activities is largely in line with the movement of interest rates.

Nevertheless, we anticipate that a rise in interest rates will signal a strengthened economy and reduce unemployment.

That should open the door for the purchase of homes and our staff will be prepared to quickly switch gears to take advantage of that market.

Mortgage banking is not new to Valley.

In fact, we have actively participated in secondary market sales to Fannie Mae and Freddie Mac for over the last 15 years.

During this period, Valley has witnessed almost nonexistent repurchase requests from the agencies which is a testament to the strict underwriting, quality control and processes employed in this area.

While the low interest rate environment has proven a catalyst to Valley's mortgage banking activities and, in essence, established a foundation for the record 2012 gains on loans originated for sale, the impact to Valley's, and for that matter the entire banking industry's net interest margin has been significant.

From the first quarter of 2012, Valley's net interest margin has contracted nearly 30 basis points.

We continue to manage the balance sheet with an asset sensitive bias.

Also, when interest rates do ultimately rise, we believe that the contraction in mortgage banking income should be mitigated by expansion in the net interest margin.

At Valley, our focus has never been on maximizing current period earnings, but rather on generating long-term sustainable earnings in a range of different interest rate environments.

We have a well-diversified balance sheet and operate arguably in one of the most desired geographic footprints in the country.

General lending activity throughout the Bank was strong in 2012.

Not only origination records were achieved in residential mortgage but throughout commercial lending as well.

In total, Valley generated over $1.4 billion of new commercial loans and commercial mortgages during 2012, an increase of nearly 25% from 2011.

During the quarter, activity was just as brisk with commercial lending originations equaling over $350 million, an increase of nearly 7% from the prior quarter and 22% from the same period one year ago.

Unfortunately, commercial mortgage refinance activity has created an enormous hurdle to growing the commercial portfolio.

As a result, commercial loan balances outstanding for the period declined slightly from the prior quarter.

The competition for high-quality moderate loan-to-value commercial loans remains intense in our marketplace.

The larger money center institutions have become much more aggressive in pricing smaller credit facilities which, historically, were of little interest to those institutions.

Similarly, smaller local community banks are equally assertive on rate and term and in some instances, we believe, overly flexible on traditional standard loan covenants.

Expanding the loan portfolio merely to demonstrate growth is not an objective at Valley.

Generating positive returns priced appropriately for both the inherent credit risk credit and interest rate risk is the focus at Valley.

Often a challenging external environment leads to irrational behavior, such as extending duration or failing to price for the underlying credit risk.

At Valley, our credit culture is the hallmark of the Bank.

We attempt to resist short-term market pressures which only create additional hurdles in future periods.

Putting on large volumes of long-term low interest rate loans at this time will ultimately place undue pressure on bank capital and future earnings, a lesson that seems to have been forgotten by many in our industry.

In our effort to continue to provide adequate returns to our shareholders during these challenging times, Valley continues to be ever vigilant in controlling expenses.

During the past year, we have implemented many significant cost-cutting items that will contribute millions of dollars to our bottom line, and we continue to explore all of our activities to seek out future saving -- further savings.

We continue to be optimistic about the future.

The impact of our mortgage banking program in New York is just now beginning to scratch the surface and we anticipate the mortgage pipeline to continue to be robust throughout 2013.

As commercial activities begin to rebound in our footprint, Valley's history in the marketplace, scale and community bank culture provides a wonderful platform to service the needs of the community.

We offer customer-focused service, generally only obtained at a small bank with the lending expertise and scale of a larger regional bank.

The improving economy, coupled with Valley's diverse and solid balance sheet, should provide the vehicle for growth in 2013.

Alan Eskow will now provide some more insight into the financial results.

Thank you.

The net interest margin for the quarter declined to 3.41% from 3.46% in the third quarter.

As a result, net interest income in the fourth quarter was approximately $3.3 million less than the prior period.

The decline in both net interest margin and net interest income is largely attributable to the low interest rate environment, the decline in linked quarter average earning assets and a few infrequent items.

During the fourth quarter, approximately $600,000 of interest accretion on fully repaid FDIC covered loan pools which Valley accounts for under the pooled asset guidance of ASE 320, was recorded.

This represents a decrease of approximately $1.5 million from the prior quarter.

As a result the net interest margin was negatively impacted by approximately 4 basis points during the quarter.

Mitigating the sequential quarter decreased was an expansion in prepayment penalty fee income recognized during the quarter.

The increase in prepayment income of $3.2 million is attributable to both Valley's originated and acquired portfolios.

The recognition and amount of these forms of income is subject to a multitude of external factors, and therefore, we cannot predict with certainty whether Valley's net interest income will benefit from similar adjustments in future reporting periods.

The low interest rate environment continues to pressure asset yields as the competition for high-quality credit has intensified throughout the marketplace, and as a result, heightened spreads and ultimately reduced loan yields.

During the quarter the weighted average yield on new loans held in portfolio was less than 4% which, in part, led to the decline in the portfolio loan yields and 5.12% in the third quarter to 5.09% in the fourth quarter.

Similarly, the yield on newly purchased taxable investments during the quarter was 2.08% which led to the 19 basis point decline in linked portfolio yield.

The desired duration within Valley's entire investment portfolio is largely a function of the Bank's macro asset liability strategy.

As a result, to shorten the projected investment duration, Valley at times purchases mortgage-backed securities with higher coupons and associated high premiums.

As of December 31, 2012, Valley's $1.3 billion mortgage-backed securities portfolio had approximately $45 million of unamortized premium or 3.5% of book value.

Based on current market prepayment speeds, on an annual basis, Valley amortizes approximately $22 million which equates to an average life of about two years.

Although amortization of the premium negatively impacts the current mortgage-backed securities yield by approximately 1.7%, should interest rates rise, net interest income in the portfolio yield will expand simply as a function of declining premium amortization.

Alternatively, should interest rates remain at historical low levels, the printable cash flow generated positively impacts the Bank's asset liability mix.

Valley's fourth-quarter total cost of funds was 1.25%, a decrease of 1 basis point from the prior period.

The cost of deposits declined 3 basis points to 0.49% as the composition of non-interest-bearing deposits to total deposits increased from 29% to 32%.

Albeit slowly, Valley's cost of funds continues to migrate down in the current interest rate environment.

However, the compression on asset yields is far greater than the decline and the cost of funds.

Consequently we anticipate continued margin pressure.

The contraction from the fourth quarter to the first quarter may be larger than the current linked quarter decline due to uncertainty in the timing of interest accretion in prepayment penalties.

Valley's expanded mortgage banking activity continues to drive non-interest income.

For the period, the gain on sale of loans equaled $15.6 million compared to $25.1 million in the prior quarter.

The decline of $9.5 million is largely due to the components which drive the valuation as opposed to a decrease in actual mortgage banking activity.

Three variables impact the total net gains reported by Valley each period.

The gains on sales of actual loans sold, the valuation mark on loans held for sale which we have elected to carry at fair value, and the reversal of the prior quarter end valuation mark on loans held for sale.

In the third quarter, Valley realized approximately $18.8 million of gains on actual loans sold, $7.6 million gain on the valuation mark on loans held for sale, and a reversal of $1.3 million in income attributable to the valuation of loans held for sale at the end of the second quarter.

In the fourth quarter, the gain on actual loans sold equaled $18.4 million.

The valuation gain mark on loans held for sale was $4.8 million and the reversal of the mark to market gain attributable to loans held for sale at the end of the prior quarter was $7.6 million.

As such, the linked quarter decline in net gains on sales of loans is largely attributable to the change in the balance of the held for sale portfolio between the second, third and fourth quarters.

As Gerry indicated earlier, mortgage banking activity remains brisk, originations for the quarter totaled a record high and we anticipate significant future activity, assuming interest rates remain at their current levels.

Non-interest expense increased approximately $2 million from the third quarter, largely due to increases in occupancy and legal fees, partly mitigated by a decrease in employee benefit expenses.

The increase in occupancy expense is largely attributable to an additional $1.6 million in rental expense recorded to adjust for the straight-line recognition of expense on certain operating leases.

We anticipate less than 20% of the $1.6 million to be a recurring quarterly expense for such leases during 2013.

Hurricane Sandy had an impact on overall operations during the fourth quarter.

In addition to the impact on residential mortgage activity that Gerry discussed earlier, Valley recorded approximately $1 million in net losses on impaired branch location assets caused by the hurricane and an immaterial amount of building repair expenses.

Insurance claims are in process and we expect some insurance recoveries related to the storm damaged in the first half of 2013.

In addition, the hurricane had a negligible impact on credit quality to date as only one $4.6 million commercial loan relationship placed on non-accrual status in the fourth quarter was directly linked to damage inflicted by the storm.

On the surface, total credit quality appeared to deteriorate slightly as compared to September 30, 2012 as non-performing assets increased approximately $10 million from the prior period.

However, the linked quarter increase is largely attributable to one additional non-accrued commercial loan relationship impacted by the hurricane, and one other new non-accrual commercial credit in the amount of $8.8 million in which the borrowers are currently performing in accordance with the restructuring plan established.

Annualized net charge-offs to non-covered loans for the quarter equals 0.15%, improving from 0.21% for the third quarter of 2012.

In fact, the current quarter net charge-off ratio is Valley's single best quarterly performance since the financial crisis unfolded in 2008.

Although the non-performing asset figure increased during the quarter, the current period decline in net charge-offs is positive.

Moreover, our conservative and detailed loan by loan quarterly comparative analysis of non-accrued loans and TDRs totaling $206.7 million resulted in only $31 million in related specific reserves within our allowance for loan losses without consideration for potential recoveries from certain personal guarantees.

Our driving focus on substantial borrower equity and personal guarantees in the loan underwriting process helps to minimize Valley's absolute loss exposure when a loan ceases to perform in accordance with the original agreement.

This concludes my prepared remarks, and we will now open the call to questions.

(Operator Instructions).

Steven Alexopoulos, JPMorgan.

Good morning, everyone.

In terms of thinking about a core margin in the first quarter, Alan, should we back out to 6 basis point benefit to the loan yield, then assume more normal margin pressure put it somewhere around [331-ish]?

I think so, Steve.

Again, as I said, we don't know what's going to happen with things like accretion and prepayment, but those are things that are really unknown to us at this point.

And then given the comments, Alan, to expect pressure on margin at 2013 which is very consistent with what most banks are saying, but given that you're selling some of your loan production, do you think you'll behold be able to hold net interest margin income flattish in 2013 or should we expect that to decline for the full year?

I think at this point we will probably see some decline, I think looking forward in the budget process, so we are seeing some decline, but it's really a function of volume.

If the volume stays with us, obviously that will help the NII a lot.

Maybe not the margin but the net interest income.

So as long as that volume holds up, even though we are selling residential loans, we would expect that we'll be okay with the NII, the volume goes down and obviously it will negatively impact us.

And then, Gerry, on the mortgage regarding dropping the refi fee to $499 in New York, was that in response to volumes maybe starting to slow a bit, and how much do you make on average per loans sold in New York compared to, say, New Jersey?

As I recall the loans in New Jersey run as we make about $8,000 $10,000 per loans in New York.

It's about half of that.

But it's still a healthy margin.

It's the reason we decided to expand the volume into New York while we don't make as much on the New York as we make on the New Jersey loans, mainly because of taxes and other expenses that we can't control.

It's still profit.

I don't think it was a function of volume going down, I think everything we've told you so far, volumes are remaining where they were were going up, so it wasn't in reaction to that, I think it was in reaction to the fact we're in New York, we have a large amount of branches there, we have a lot of activity we are trying to generate, and we can make money on it.

Okay, thanks for all the color.

Craig Siegenthaler, Credit Suisse.

Thanks.

Good morning, guys.

Can you provide a little bit more color around the pickup and repayments on the C&I side?

There's a lot of challenges out there right now on people trying to take advantage of the lower interest rates.

So a borrower who has a 5% mortgage, that feels it's worth paying the prepayment penalty, so as they can refinance it at 4% or whatever the number is at the lower numbers.

One of my concerns, and I touched on it in my comments, I think that the prolonged low interest rate environment is pressuring a lot of institutions to do what I'll call irrational pricing.

Irrational structuring.

We see banks that are -- loans that are going out for 20 years at 3%.

I am a believer that, although I can't identify when, that interest rates are going to go back up.

The Fed is not going to be able to keep them at this level permanently.

And when they do go up, if you allow yourself to start making large volumes of loans, like I just described, that institution is going to be facing a bigger challenge than the subprime residential mortgages cost.

You're never going to be able to fund positively a loan at 3%, if prime moves back to 6%.

So I think you have to have a little caution.

One of the benefits of my age, I guess I've lived through an awful lot of cycles.

And one of the things you get to realize is that interest rates are cyclical.

And they are going to go back up again.

And if you burden yourself with low interest rate, long-term obligations, you're facing a brick wall.

Then, Gerry, the same question asked on the C&I side.

I'm wondering if you thought there was any seasonality in the fourth quarter or if the increase in tax rates drove any of you guys losing some of your C&I credits and also maybe M&A, and any of those issues --

All of the above, I guess, to some degree.

Historically a lot of our New York lines of credit have paid down in the January -- December/January period.

They borrow heavily for Christmas and actually starting in November they start to come down.

I think that the hurricane had some effect on people's decisions to move forward.

Consumer confidence is not the strongest it has ever been.

Obviously if you read the paper today it's not favorable.

All these impacted negatively on that growth.

One final question.

It looked like there was a $7 million single construction loan that went delinquent in the fourth quarter.

Can you provide us any color around that credit?

It was a construction loan that the borrower has been stalling, not doing what we felt they should.

We took appropriate action with it.

Got it.

Great, guys.

Thanks for taking my questions.

Damon DelMonte, KBW.

Good morning, guys.

Alan, I was wondering if you could kind of recap and provide a little bit more color on the reversal of the marked to market on the loans held for sale and kind of how that works.

Yes.

I'm trying to think of the easiest way to explain it so everybody clearly gets it.

I think the marked to market really just moves gains from one period to the next.

It doesn't mean that there was more or less in any period.

So for example, if you looked at what happened of actual sales in the third quarter, as I said, we had $18.8 million in gains.

If you look at the fourth quarter we had $18.4 million in gains.

If you took the $7 million, just let's use that to get the second quarter for a moment -- if you took the $7 million of our marked to market at the end of the third quarter of loans that were not delivered but they were on our balance sheet and fair valued as though they were sold, because that's how you fair value it, you would have shifted that.

So instead of having $25 million for argument's sake in the third quarter we would've had $18.8 million and we would have shifted that $7 million into the fourth quarter.

So all it really did is it shifts the numbers around from quarter to quarter.

It's not really affecting the volume.

Now that being said, in the fourth quarter we had a lower amount of inventory or loans held for sale that were fair valued.

So that number was $7.3 million versus at the end of the third quarter it was -- I'm sorry, it was 4.8 -- $4.8 million versus where we were in the prior quarter at $7.6 million.

So it's like any accrual accounting works effectively, it's like if you record an accrual for an expense at the end of any period, the next period you have to reverse that so you don't record the expense again.

This is the same thing except it's on gains now instead of on expenses.

So again, you've got to continually reverse out whatever the fair value is at the end of a period, and that goes now as a negative when I begin the next period.

Does that help at all?

It does, I think I can follow that logic.

Thank you.

It's Gerry.

I think it's almost easier -- you can't really do it, but you have to look over a 12-month period as opposed to a three-month period and it would level itself out more.

You'd see more of a leveling.

Right, I got you.

And with respect to your expected origination volume here in the first quarter, could you just recap what you had said on that?

I know you said January was starting out pretty strong --

We are over 1,700 applications.

That's the highest month in the history of the bank in the history of our programs or anything.

The best month we had was somewhere in around 1,640, was the highest we had before that and that was I think in September or August.

We did get crushed, as I pointed out, by Sandy.

Literally the Bank was closed for a couple of days, so the application volume went to zero.

And in the period, the weeks following it, there was so much concern about how people not having electricity and not having being able to get to work, people were thinking about refinancing their home.

So it took us probably about a month to get back, and then quite frankly over the Christmas holiday, it's never been a strong residential mortgage period, so the [drop stayed].

In January though it did come back, as I say, and our daily volume has been very encouraging.

We saw record days a couple times during the month.

In fact, just yesterday I was told it was the second highest day we've ever seen.

So we are really encouraged.

That's very helpful, thank you.

One other question on the expenses.

I know there's $1.6 million related to the expense accrual for the branches.

Is there anything else in there that we should exclude kind of going forward for a starting point for the expense base?

I'm sure there's some small minor things that we did that we just --

It's not anything major.

So something in the 94, 95 range is a good starting point then?

Yes, I think so.

That's all I had, thank you very much.

David Darst, Guggenheim Securities.

Good morning.

Gerry, I believe in your opening comments you were discussing the branch network and expansion plans.

Maybe your consolidation.

Could you go back over those comments?

We are actually doing both.

We're looking at all of our branches, make sure that they justify their existence but at the same time we are looking at opportunities to expand.

One of the things that has proved invaluable in our mortgage program is the fact that we have branches scattered throughout our marketplace where we close the loans.

Almost all the loans close at the branch.

That's very helpful.

The loans are sourced through the branches, they are -- if you come in by telephone the call center will send the application to the closest branch so they can be serviced at that level.

So we give more of a local feel.

We are looking at some other locations right now, either by opening up a full service branch or a loan production office or some other form of facility that we can service.

We are doing a nice volume of business in Pennsylvania but we have only one loan origination office there, and it's not a branch it's just a loan production office.

We are seriously looking at opening up some additional offices of that nature so that we can do it, do a better volume there.

So we are looking at all our branches, we are looking at if they are not worth keeping open because of the bottom line, the volume of activity we see there we will close it.

And all banks are seeing a decrease in floor traffic in their branches.

At least that's what I'm reading in all the trade publications.

So, fortunately, we have found another use for our branches at the present time that reinforces their existence.

When you're not paying virtually any interest on specific to deposit and money market accounts you don't have a line of people coming into the branches trying to open up new CDs and money market accounts.

So their floor traffic is down for that reason also.

But, fortunately, we are seeing quite a bit of activity with the mortgages coming through the branches.

So, just as that ties back to the overall efficiency and your efficiency ratio, do you have other initiatives that will allow you to maybe maintain the efficiency ratio a couple years (multiple speakers)

We went to eliminating the messenger services throughout our system, and we use a direct remote deposit capture system to pick up and handle all the checks that come into the branches.

That savings, we understand, will be about a $2 million savings.

So between the savings of the messengers and so forth.

Also looking at the branches and how we staff them, 25 of our offices or 25 of our managers manage more than one office.

We used to have -- those are all significant savings when you start to multiply the annual salary with benefits and everything times 25, you realize what the go forward savings are.

So we are looking at everything we do, not just one area.

We like to keep the branch network going if we can keep it efficient.

If it doesn't remain efficient we have to make changes.

Okay.

Alan, could you remind us what the balance is of the single issue trust preferreds in your investment portfolio and the change in the fourth quarter?

There was no change.

The numbers in the $40 off million range?

Oh single -- total single issuer?

Correct.

I don't know the number off the top of my head.

It's in the couple hundred million dollars range, but we have had some calls over the last couple of quarters -- and but it's been pretty -- actually quiet in the last three months or so.

We haven't really seen anything.

The good news is they haven't been called because they are all high-quality, they are paid and they're all at substantial interest rates.

Okay.

Great, thank you.

Collyn Gilbert, Stifel Nicolaus.

Thanks.

Good morning, gentlemen.

Two quick housekeeping items.

First, Gerry, given the comments you made a little bit ago on mortgage banking and the reversal that you have obviously seen since the beginning of the year in terms of application volume, could that suggest a higher level of mortgage banking income in the first quarter and beyond, relative to what we saw in the fourth quarter then?

Yes.

Okay.

And then just one thing on -- the CD rates still seem -- your CD rates still seem pretty elevated relative to think where your current posted rates are and just where it seems like the market is.

Is there something going on there?

Remind us, did you guys put out a three-year product -- (multiple speakers).

That's exactly what it was.

There was a point in time when we probably did somewhere between three- and five-year CDs, and they take time to run off, they were at high rates at the time we did them, no different than borrowings that are out there from years ago.

It is the same exact situation and they are just going to take a couple of years to run down.

They run down every single day, but unfortunately as I said before, everything is running down slowly in terms of those.

Okay.

And I guess just kind of a bigger picture question, Gerry.

Your intro comments, it's clear that you're taking which is typical of Valley, a very conservative sort of defensive posture in this environment.

How do you think about your capital needs should things start to turn and gross growth eventually pick up?

Let's say that you are right and your peers are just crushing themselves by taking on these long-duration assets and that would potentially put you in a better competitive position to grow.

How do you think about your capital levels when that comes?

And I guess I'm drawing in on -- .

We have a pretty strong capital position today.

We are ever mindful of that position, we want to maintain that strength which has always been one of the hallmarks of the Bank.

I just question why people would do such foolish things as put on large volumes of 20- , 30-year locked in low interest rate loans.

We would rather take the hit in some cases and do a swap to a floating rate, from a fixed to a floating, we've done some of that and we are receiving what I would consider at the present time a paltry interest rate.

But I would rather receive a very low floating-rate now, I have the loan, when rates go up that has increased, and we underwrite the loan to an increased rate, not to that rate.

But we want to make sure that hey, we are protecting the institution.

You have to have a long-term view.

Sure.

Okay.

Do you have a sense of the irrationality that's going on in the market?

Is that taking core customers away from you?

Obviously, again, your paydowns have seemed much more elevated than I guess I would've thought, you talk about the commercial originations seemed robust but yet we are not seeing it in terms of growth, so it's suggesting obviously paydowns are strong.

Is there a risk that this irrationality is taking core customers away from you so --

We may lose some customers.

In many cases, we try to do something like I say, where we will do a swap to hold on to the customer, but we are going to be taking it on the chin with lower incomes at the present time.

Rates go back up, that income will come up.

But it's very difficult.

It's one of those things -- this is very similar to the subprime residential lending boom.

You have to stand on the sidelines and take it on the chin, saying, wait a minute, those are not something -- those are not the type of loans you should be making.

And time proves us right again and again whenever a fad came along and everybody else was doing it and we avoided it.

Okay.

It's Alan.

Let me go back to your comment about the capital.

We've always been pretty comfortable with capital as we are with our allowance, and I think a lot of times for years and years people have said, well, your allowance is lower than everybody else's, your capital is lower than everybody else's.

But we look at it in terms of the riskiness of our balance sheet and --.

Sure.

Just looking at the net charge-offs we reported even though we have a high number of non-accruals and so forth and so on.

So that's how we look at it.

Also, when Basel comes in, a lot of our assets are going to be require less capital than many other institutions because of the way we underwrite and the type of assets we keep.

And so that's going to require us to have less capital.

However, if we do see a period of time when growth is going on, and all of a sudden the balance sheet is ready to grow again, then we will have to reassess the need for capital.

And that was my question wasn't from a risk perspective because it's clear you've got, from that standpoint you're in great shape.

I was just thinking about -- because capital is not growing, currently, and should that occur where you need more, to support a larger balance sheet, what would be the thought.

Okay, that's helpful.

And one last question.

So, to me, one of your biggest competitive advantages as you sit today is your currency and your ability to do acquisitions.

Can you just talk about that a little bit?

Do you see any opportunities starting to emerge again?

We've seen a couple deals in the last 2 days at least within the Mid-Atlantic Northeast go off.

Maybe you could comment a little but more on that if you could.

I do see more activity taking place, I'm hearing more people who would like to do something.

I think the marketplace is beginning to become more rational as to what their expectations that they are going to get.

I think more and more institutions are coming to the conclusion that they just can't make a profit if they don't have the ability as we fortunately did to come up with a product such as our residential refi program to augment the drop in net interest margin.

Net interest income.

So I think you're going to see a lot more probably in the second half of this year.

But I think there's going to be enormous pressure on smaller banks.

Does that mean Valley will be more active in the second half of this year?

It all depends whether we are going to be able to get something at a price that we feel is appropriate.

That's all.

Thanks, guys.

Matthew Kelley, Sterne Agee.

Hi, guys.

Just a question.

There was a little bit of an uptick in the [bill for] sales securities portfolio, would you buy it and where should we expect that to go?

Mostly we bought MBSes.

We do buy some municipals, they are usually held for sale, though but we do buy some MBSes from time to time.

Do we think the balance increases from $2.4 billion at year-end over the next year?

We are going to continue to watch it.

We have a lot of cash flow coming out of that (multiple speakers).

So because of that we need to be cognizant of the fact that if we don't do something we end up building up a lot of cash in 25 basis points.

So it's really a balancing act of buying something else versus loans; if we get enough loans in the door, then we would be happy not to do investments.

Another question, one of your peers in the marketplace did a blend and extend trade, or announced it today, on a large portion of their FHLB advances which have high costs associated with them.

Could you remind us of your thoughts on that $3 billion at 4%, how you view that?

We've done a fair amount of them already, I think we did $600 million or thereabouts.

I don't think we want to go too far on that.

As each year goes by, it gets closer and closer to some of those maturities.

So we are not so sure we want to extend it out further into the 20s when we don't know where rates are going to be or not going to be.

So we are not happy with where those rates are at the moment, they were done for a very specific purpose, and it's just not that easy or cheap to get out of them.

Got you.

Question, Gerry.

How would you characterize the New Jersey commercial real estate market today versus six to 12 months ago.

You have given some big picture updates in the past, I'd love to get your thoughts as you sit down with owners of buildings talking about rent trends and occupancy levels and property moving.

Size up the market as you see it from talking to your customers.

I think a lot of it depends on the type of market you're talking about.

If you're talking about apartment houses, garden apartments, particularly in New Jersey, the rental market is very strong.

Occupancy is very high, vacancy accordingly is very low.

And they are seeing a very good market.

If you talk about big boxes, it's a mixed market.

The location of the tenant was if you have a tenant that's looking to shrink, I wouldn't be happy if I had a Barnes & Noble and particularly if it wasn't a strong market when they announced they're going to close a significant portion of their stores over the next year.

So the big bucks market is a more vulnerable market.

I think the strip centers are also experiencing some difficulties.

Small little stores are closing out and they are not ramping up quite as fast.

What about B&C quality office properties that represent a bulk of what ends up on bank balance sheets?

We don't -- when we lend we generally get a very strong equity position in it.

So it doesn't stay on our balance sheet very long.

It doesn't even usually come to that, the borrower knows they are in a better position if they sell it to $0.75 on the $1 they give it to us for $0.50 on the $1.

Generally speaking we haven't seen a big uptick in problems situations.

In fact, they are relatively flat, the situation with us.

And last question, what is the yield on the commercial real estate originations during the fourth quarter?

About 3.5%, in that ballpark.

Thank you.

(Operator Instructions).

Nancy Bush, NAB Research (multiple speakers).

Could you speak to the regulatory environment right now, is it getting worse, getting better, stabilized, and your cost related to regulation, are they pretty much steady-state right now, are they still continuing to (multiple speakers)?

I guess they have been steady.

Steady at a very high level as we said before, it probably cost us at least $40 million more a year to run the bank than it did seven, eight years ago.

That doesn't help.

I'm not so sure the regulators understand some of what they are doing.

Forcing interest rates down for long periods of time, making long-term borrowings very inexpensive, is going to have a negative impact on banks.

I'm thinking more of the CFPB.

Have we kind of seen the brunt of CFPB at this point, or is there a lot more to come from (multiple speakers)?

I don't know.

One of the things that doesn't really upset us that much are some of the qualified mortgage, the QM requirements, because they pretty much mirror our long-term underwriting guidelines at Valley.

We always required equity down by the borrower on the home.

We always look to control the amount of income that goes toward their debts.

So I'm not really as upset about that as some people might be.

If you have a person who wants to lend with 2% down and 70% of income going to the mortgage, then you are all upset, your volume is off.

That's not going to affect us.

All right, thank you.

We have no further questions at this time.

Thank you for joining us on our fourth-quarter conference call, and have a good day.

Ladies and gentlemen, that does conclude your conference for today.

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